Hennessy Advisors, Inc. — Q1 FY2019 Form 10-Q
Reporting period: Three months ended December 31, 2018; unaudited. Comparisons are with the three months ended December 31, 2017, unless noted. Hennessy primarily earns investment advisory and shareholder-service fees based on the average daily net assets of its mutual funds.
Financial results and liquidity
| Metric | Q1 FY2019 | Q1 FY2018 | Change / context |
|---|---|---|---|
| Total revenue | $11.644 million | $13.813 million | Down 15.7% |
| Net operating income | $4.605 million | $6.434 million | Down 28.4%; operating margin was 39.5% versus 46.6% |
| Income before taxes | $4.373 million | $6.147 million | Down 28.1% |
| Income tax expense (benefit) | $1.306 million expense | $2.040 million benefit | Prior period included a one-time $4.2 million non-cash tax benefit |
| Net income | $3.067 million | $8.187 million | Down 62.5%; net margin was 26.3% versus 59.3% |
| Diluted EPS | $0.39 | $1.04 | Prior-period EPS benefited from the tax adjustment |
| Operating cash flow | $1.832 million | $2.400 million | Down $0.568 million |
| Cash and cash equivalents | $23.446 million | $25.395 million at September 30, 2018 | Quarterly decrease of $1.949 million |
| Debt | $20.8 million gross; $20.7 million net of issuance costs | $21.9 million gross at September 30, 2018 | Monthly principal payments reduced debt |
Investment advisory fees were $10.738 million, down 15.3%; shareholder-service fees were $0.906 million, down 20.6%. Operating expenses fell 4.6% to $7.039 million, but increased to 60.5% of revenue from 53.4%. The filing does not provide a single overall gross-margin measure.
Cash flows included $1.797 million of investing outflows, principally $1.740 million of payments related to management contracts, and $1.984 million of financing outflows, including $1.094 million of loan principal payments and $0.871 million of dividends. Current assets were $27.945 million and current liabilities $8.868 million at December 31, 2018.
Material changes and business developments
- Assets under management were $4.888 billion at December 31, 2018, down 21.1% from September 30, 2018 and 29.4% from December 31, 2017. Average AUM for the quarter was $5.6 billion, down 17.3% year over year.
- The quarterly AUM decline reflected $1.049 billion in redemptions and $0.767 billion in market depreciation, partly offset by $310 million in organic inflows and approximately $195 million of acquisition inflows. Redemptions averaged 6.0% of AUM per month, up from 2.4% in the prior-year quarter.
- The largest reported quarterly fund outflows were from the Hennessy Focus Fund ($332 million), Mid Cap 30 Fund ($239 million), and Gas Utility Fund ($82 million). The Japan Fund led inflows at $64 million.
- The October 2018 purchase of the BP Funds’ management assets added nearly $200 million to AUM and $1.740 million of purchase-related cash outflow. The company recorded $79.903 million of management contracts at December 31, 2018, and reported no impairment.
- Compensation expense declined 8.4%, mainly due to lower incentive compensation. Sub-advisory fees declined 3.5% in dollars, but rose as a share of revenue. Interest expense increased 3.3%, primarily due to a higher loan rate.
Outlook, risks, and unusual items
- Management said cash and other liquid assets on hand were expected to meet capital requirements for at least one year from the report’s issuance. It may seek increased borrowing capacity or access to capital markets if internal resources are insufficient; there is no assurance that additional capital could be raised.
- No quantitative earnings or revenue guidance was provided. Management described its strategy as pursuing acquisitions and organic growth through asset retention and inflows, while focusing on fund performance and investor service.
- Management identified mutual-fund redemptions, investment performance and market fluctuations, interest rates, competition, taxes, and regulatory change as business risks; it also expects regulatory developments to add administrative and compliance costs.
- The term loan was secured by substantially all company assets, bore an effective rate of 5.099% at December 31, 2018, and matured September 17, 2020. The company reported compliance with loan covenants. The rate was based on a one-month LIBOR contract renewed monthly.
- The BP Funds transaction includes a subsequent payment due after its one-year anniversary, calculated using successor-fund net asset values. The amount was not reasonably estimable, so no contingent liability was recorded at December 31, 2018.
- The prior-year quarter’s $4.2 million non-cash tax benefit arose from remeasuring deferred taxes after the federal corporate tax-rate reduction. The company’s effective tax rate was 29.9% in the current quarter versus a benefit rate of 33.2% in the prior-year quarter.
- Management reported no material subsequent events, no material changes in internal control over financial reporting, and effective disclosure controls as of quarter-end.
Important facts for investors to verify
- Whether elevated fund redemptions and market losses persist, particularly in the largest funds, and how they affect AUM and fee revenue.
- The timing and size of the BP Funds’ contingent second payment, which depends on successor-fund assets and was not quantified.
- Debt repayment, covenant compliance, and refinancing or interest-rate exposure as the September 2020 loan maturity approaches.
- The sustainability of cash generation and the quarterly dividend amid lower AUM, acquisition spending, and debt service.
- The filing’s reported historical fund-return information and its relevance to future investor flows; past performance is not a guarantee of future results.